Inflation hits six-month high of 6.10% in August

Never in recent history has a week been so important for the world and the domestic economy as this one.

On Friday, Raghuram G Rajan will get into the business end of his induction as India’s new Reserve Bank of India (RBI) governor when he presents his maiden monetary policy review.

In India, business leaders, home loan borrowers, and investors all seem to have one question in mind: Will Rajan mark a turn towards lower interest rates?

The world, and Rajan, however, have another question: How soon will the US turn the tap dry on the flow of ultra-cheap funds?

The action that US Fed chief Ben Bernanke will probably take on Tuesday and Wednesday (September 17-18) on the imminent scale-back of an easy money policy in the US will determine the immediate course for RBI.

Rajan will also keep one eye on the wholesale price inflation data for August — it was 5.76% in July—, which the government will release on Monday (September 16) to gauge the knock-on effects of weak rupee on overall prices.

The Federal Open Market Committee (FOMC) of the US central bank, will probably announce an immediate scale back of stimulus by about $15 billion a month on Wednesday..The “tapering” will slow down the funds flow to India and other emerging markets, which have been receiving large doses of the ultra-cheap money boosting equity and currency markets. And as rates rise in the US, funds will flock back home in the US. After the Fed signalled the rolling back of its stimulus, overseas funds have pulled out more than $12 billion from Indian markets.

The rupee has slid by 22% in wake of the resultant demand for dollars since May after the Fed first hinted about winding down the $85-billion-a-month stimulus.

Analysts do not expect Rajan to announce a rate cut on Friday. In fact, he may hike rates to prop up the rupee.

“In our base line scenario, we expect rates to remain on hold this fiscal year. However, if a currency crisis continues to unfold, then the RBI may be forced to hike the marginal standing facility rate or the repo rates, as a growth sacrifice may become necessary to ensure financial stability,” said Sonal Varma, economist at research firm Nomura.

“We expect the RBI to persist with tightening (launched in July) till mid-December unless the Fed defers tapering on September 18,” said Indranil Sengupta, economist at Bank of America-Merill Lynch.